O'Neill v the OECD: It's Only Round One

by Jeremy Hetherington-Gore, Tax-News.com, London

21 May 2001

This is a seminal moment in the history of international taxation: after almost ten years in which left-wing governments have dominated the G7 and the OECD, with concomitant tax-and-spend attitudes towards the states they controlled, there is a partial right-wing backlash which seems likely to de-rail some at least of the illiberal and anti-competitive initiatives that were launched in the late nineties.

The 'New Left', the 'Third Way', and other such anodyne pretences gulled the post-Thatcherite and post-Reaganite chatterati - already softened up by the ideology-free zone that operated under Major and Bush Senior - into believing that it really was possible to combine economic progress with a Bevanite or Johnsonian Great Society. Sorry, but it ain't so.

Now the consensus that created 'anti-money laundering' (the FATF), 'harmful tax practices' (the EU), and 'unfair tax competition' (the OECD) - even their progenitors have trouble remembering which is which - has been shattered by the defection of the United States, and the probable desertion of Italy under Silvio Berlusconi. Meanwhile the central trio of Germany, France and the UK are riven by dissension over EU enlargement and failed to push through an extension of majority voting to cover some tax issues at the Nice summit.

The EU Is Now Open To Tax Competition

To cap it all, the EU's Taxation and Internal Market Commissioner, economic liberal Frits Bolkestein, is actually against tax harmonisation. This week the Commission will publish a report, "Tax policy in the European Union - Priorities for the years ahead", which argues that different tax rates across the EU are not only acceptable, but positively beneficial. "A reasonable degree of tax competition within the EU is healthy and should be allowed to operate," says the document, marking a radical shift towards free-market thinking in Brussels. "Tax competition may strengthen fiscal discipline to the extent that it encourages member states to streamline their public expenditure, thus allowing a reduction in the overall tax burden." The report says that EU states should be "free to choose the structures of their tax systems as well as the tax rates and tax bases they consider most appropriate and according to their preferences", provided they respect single market rules.

The OECD Meeting Didn't Discuss Tax

The OECD met in Paris last week, in the aftermath of Paul O'Neill's clear disavowal of parts of the organisation's 'harmful tax competition' agenda, and faced with open rebellion on its tax and transparency proposals at least from the US, Luxembourg and Switzerland, had to defer the issues to a separate meeting to be held in June. The final communique from the OECD's meeting contained just a few bland words on the subject: 'We note the work undertaken on harmful tax practices and look forward to the conclusions of the OECD project.'

Predictably, the French are both unhappy and vociferous about the turn events have taken. "Whether it's about the fight against the greenhouse effect, or the fight against money laundering and tax havens, the world's biggest power can't turn its back on the planet's problems," thundered Finance Minister Laurent Fabius, saying however that it's nevertheless important to continue the dialogue with the U.S. and to get it to change its mind on the two contentious issues.

Attempting to counter criticisms that the US is simply going about wrecking international co-operation so laboriously put together over the last 10 years, Glenn Hubbard, the newly appointed head of U.S. President George W. Bush's Council of Economic Advisers, said that the Bush administration remains committed to the fight against money laundering and criminal tax evasion and supports the exchange of information among tax authorities to snare evaders. He said that U.S. Treasury Secretary Paul O'Neill had simply put forward the view that tax competition is something to be encouraged rather than eliminated.

But he demurred when asked if the U.S. would back international sanctions against a list of jurisdictions that are considered to have harmful tax practices if they don't change their ways by July 31.

'Offshore' Calls For Global Tax Discussions

It could indeed be a mistake for the offshore jurisdictions in the OECD's line of fire to be triumphalist simply because the US has said it is reconsidering the OECD's initiative. Prominent lobbyist the Centre for Freedom and Prosperity warned against over-confidence last week, and the jurisdictions' newly-formed grouping ITIO (International Tax and Investment Organisation) adopts a moderate tone in calling upon OECD Finance Ministers to involve small and developing economies (SDEs) equally in ongoing discussions on global tax and investment matters.

Following the OECD meeting, ITIO issued a press release:

"Since the statement by US Treasury Secretary O'Neill last week, the future direction of the OECD's harmful tax competition initiative has been uncertain.

"ITIO members continue to be firmly opposed to criminal tax evasion. We are also opposed to the development of rules that stifle competition.

"Whatever happens now must be done on a truly inclusive basis, with developed and developing countries working together on a level playing field.

"The OECD's process must be refocused so as to involve ITIO members and other small and developing economies equally and by right in setting any new international standards.

"The current situation, with the OECD threatening sanctions against small countries while OECD members don't meet the same standards, must not be allowed to continue."

The ITIO currently comprises Anguilla, Antigua and Barbuda, Bahamas, Barbados, Belize, British Virgin Islands, Cayman Islands, Cook Islands, Dominica, Malaysia, St Kitts & Nevis, Turks & Caicos and Vanuatu. The Commonwealth Secretariat, Pacific Islands Forum Secretariat and CARICOM Secretariat have observer status. The ITIO grew out of the work of the OECD-Commonwealth Joint Working Group on Harmful Tax Competition. The experiences of the small and developing economies in this group convinced them of the need for a new, inclusive organisation.

What Will happen Next?

The question is, what will happen next? It's fairly clear by now that the battle has been won as far as tax competition is concerned - offshore jurisdictions will remain free to set their own tax regimes, probably even including 'discriminatory' ring-fencing of offshore away from onshore companies. It's also probably too late to go back on the widespread application of 'know-your-customer' rules in offshore jurisdictions, although the last Congress refused to apply such rules in the US, and presumably won't budge on that issue for the foreseeable future.

What remains unclear is the extent to which information exchange will become more extensive. It's worth remembering that the US installed its Qualified Intermediary rules as of 1st January 2001, and that they have been almost universally accepted by foreign countries. This means that US-source income will be subject to withholding world-wide unless protected under a double tax treaty; but it doesn't mean that the identities of offshore US or foreign investors will be revealed to the IRS on any systematic basis - just that the information is there if it's asked for through mutual assistance treaties.

Other countries will possibly tread in the footsteps of the US as regards the QI rules. Will we see the EU applying similar rules for EU-source income? It would be logical, but this would require unanimous agreement which is probably not forthcoming, any more than it was for the savings tax directive. And what rate of withholding tax would be applied? The minimum of 15% contained in the Feira compromise, presumably, but Feira will go into effect only if the US, Switzerland and key offshore jurisdictions have agreed to comprehensive information-sharing by the deadline of the end of 2002. It is still almost wildly improbable that this will happen.

The international network of mutual assistance treaties is substantially more complete than it was a few years ago, as a result of FATF and OECD pressure; and it is matched in many jurisdictions by local laws and procedures which make it easier for information to be obtained - and that information is now available, thanks to 'KYC'. But the accessibility of information in response to a specific enquiry is light-years away from comprehensive information exchange. At a guess, the steam has now gone out of the international consensus that might have led to widespread information sharing. There is plenty of heat left in the public discussion though; and many jurisdictions have embarked on legislative programmes which they won't curtail. But when the fuss does down we'll probably find that, while criminal financial activity has been pushed out of the public banking system to a large extent, the ability of Joe Public to cheat on his taxes through investing offshore has not been very much trammelled.

Whether that's a good or a bad thing is not for us to say. Honesty is good, of course; but high taxes are bad, especially if applied to world-wide income. Perhaps it's better for a high-tax country to accept a degree of cheating on the part of its wealthier citizens, than to become 100% efficient in collecting tax and see them leave altogether?

 

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